Swedish Krona Shows Resilience

What role is the Swedish krona fit to play in institutional
investors portfolios?

The stocky  a nickname derived from the countrys
capital, Stockholm  used to be one of the ultimate bets
on global growth, perking up whenever global equity markets did
so because of its high exposure to international trade.
Swedens exports total 50 percent of gross domestic
product  a much larger share than that of several larger
European countries such as France or Italy.

The currencys reliably positive correlation with
equities and other risk assets, however, has recently begun to
fade. The Dow Jones Industrial Average put in an extremely
strong performance in September, for example, but the Swedish
krona eased down slightly.

If the stocky is no longer a global risk play, what is its
new identity?

In the past the stocky has always had a high beta to
global growth, says Daniel Green, currency strategist and
vice -president at J.P. Morgan Asset Management in London.
When the global economy was strong, the Swedish krona did
pretty well. However, Green adds, whats
changed for the krona now is that theres been, to some
degree, a safe-haven flow going into Sweden 
reducing the beta to growth.

The stockys recent safe-haven status was
confirmed in May, when the U.S. and other stock markets
plunged on global growth fears but Swedens currency
dipped only slightly.

Green credits Swedens safe-haven behavior partly to
favorable sovereign debt dynamics. The countrys gross
debt, at 49.2 percent of gross domestic product, is under half
the Organization for Economic Co-operation average of 99.2
percent. The bonds are viewed as very creditworthy,
says Green.

Swedens longstanding fiscal prudence gives
it room for discretionary stimulus to support the economy
if the outlook turns out to be weaker than expected by the
authorities, the OECD declared in its economic survey of
Sweden, published Monday. This suggests that Sweden is light
years away from the debt trap of the peripheral euro zone
countries, which lack the elbow room to stabilize their
economies, and hence their tax receipts, through fiscal
easing.

Could this safe-haven identity be threatened, however, by
further cuts in interest rates? On Tuesday Swedens
Riksbank trimmed its benchmark rate by 25 basis points to 1
percent, blaming a clear slowdown in the Swedish
economy on the weak developments in the euro
area. Future rate reductions could reduce the appeal of
the stocky by shaving yields on Swedish government bonds. The
yield on the benchmark 10-year was 1.54 percent at the end of
Tuesdays European trading, 38 basis points below its gilt
equivalent, but 15 basis points above bunds.

Morgan Stanley argues, in a currency note, that the Swedish
krona is increasingly vulnerable because of
worsening Swedish economic data and a consequent rise in
expectations of Riksbank rate cutting. In response, a long
position in the dollar against the stocky, worth $0.1512 on
Tuesday, is one of our top trades for 2013.
Swedens currency is no longer a safe haven,
says Morgan Stanley, which thinks the Swedish economy will be
damaged by a worsening outlook for core euro zone
countries. Germany is the biggest customer for Swedens
exports.

Green also warns that the Swedish krona will be hit if poor
domestic data prompt further cuts in interest rates. He says
the Riksbank places particular importance on the unemployment
rate, which jumped 0.4 percentage points to 8.1 percent in
November. However, Green points out that the stocky rose on
Tuesday after the interest rate decision, because of the
Riksbanks relatively sanguine assessment of the future
outlook for Sweden  somewhat at odds with
markets more downbeat expectations.

The central bank stuck to its prediction of a bounce back to
strong growth in 2014 and said that it did not expect to cut
rates further. At the close of European trading on Tuesday the
Swedish krona was worth 0.1145, up a touch on the
day.

Mike Riddell, manager of U.K. asset manager M&G
Investments International Sovereign Bond fund in London,
still sees the stocky as resoundingly safe. He acknowledges
Swedens worryingly high private debt, which
is widely cited as an economic weakness  but adds that
this is countered by spectacularly low government
debt. Citing other strengths, including an enormous
current account surplus and a better banking
system, Riddell concludes: Recent domestic and
external weakness does not change my view that over time the
Swedish krona should gradually appreciate against the
euro. Goods exports in the third quarter were down 3.1
percent on the year.

Ben May, European analyst at Capital Economics, the
independent macroeconomic consultancy, thinks the Riksbank
could halve rates to 0.5 percent if Swedish output is hit badly
 as he predicts it will be  by the continuing euro
zone debt crisis. But despite this, he thinks the stocky is
likely to remain a safe haven against euro turbulence. May
says, If some form of euro zone break-up were eventually
to take place the Riksbank might even be forced to contemplate
taking unconventional policy action to prevent a rapid rise in
the currency. A currency with ultra-low interest rates is
still more appealing to investors than a currency whose very
existence is in doubt.